One silver lining of the Covid-19 crisis has been a surge in innovation.
Enterprising firms have invented both new products and different ways of delivering existing ones.
Innovation is the life blood of any prosperous economy. Innovation is much more than a scientific invention. It turns inventions into things of practical and affordable use to people.
The ability to deliver innovation in a sustained way is the one single quality which distinguishes capitalism from all other forms of social and economic organisation.
Yet our understanding of it remains imperfect.
MIT Nobel laureate Robert Solow laid the foundations for the modern theory of economic growth over 60 years ago. His neat mathematical model postulated that growth was caused by increases in the amount and quality of both capital and labour used in the productive process, and by innovation.
But when the theoretical model was applied to real world data, it created a problem for economics. The increases in the inputs which could be readily measured — capital and labour — could only explain a small fraction of the growth which had taken place.
By implication, most of the huge growth experienced in the west was due to innovation. But innovation itself was not explained in the Solow model.
Despite various attempts to do better, including an ingenious one which won the Nobel Prize for another MIT economist Paul Romer, economists are still far short of a convincing explanation of innovation.
Matt Ridley, the author and scientific polymath, has made a valuable contribution in his recently published book How Innovation Works.
Ridley describes how major innovations arose in a wide range of sectors, such as energy, public health, food, transport and computing.
From this mass of detailed, empirical description, he synthesises some general principles, the vital ingredients for success.
A classic image of innovation is Archimedes jumping out of his bath shouting “Eureka!” But Ridley makes clear that such moments are exceptionally rare, even if the story is true. This is for two reasons.
First, innovation is almost always a gradual process. It involves re-combinations of existing ideas and methods of production rather than single revolutionary events.
Second, innovation is, as Ridley puts it, a team sport. The myth of the isolated genius is deeply ingrained, but it is a myth. Innovation requires collaborations and building on what went before. Even Isaac Newton, one of the greatest minds in world history, acknowledged that he “stood on the shoulders of giants”.
Innovation also requires an acceptance of failure. When Edison perfected the electric light bulb, he had tried 6,000 different materials for the filament before discovering what really worked.
The book ranges far wider than just the science. For example, Ridley argues that the EU has evolved into a system in which innovation simply cannot flourish. Of Europe’s 100 most valuable companies, not a single one was formed in the past 40 years. What a massive contrast with America.
Innovation is key to a successful recovery from the Covid crisis — and Ridley’s book offers excellent insights on how to make it happen.
As published in City AM Wednesday 1st July 2020
Image: Silver Cloud by lfranks via Pixabay
The NHS contract tracing app has been scrapped in favour of a system developed by Google and Apple.
Although health secretary Matt Hancock has been heavily criticised for this failure, the UK is by no means alone.
For example, Denmark, Germany and Italy each tried to build their own app, based on the same type of centralised system as was attempted in the UK. But they have already ditched their efforts and taken up the decentralised approach of Apple and Google.
Australia is widely perceived as having had a “good” Covid-19 crisis. But the same cannot be said of its tracing app. It seems to have had serious problems working with iPhones at all. The Aussies, too, are now taking the Google/Apple approach.
The simple fact is that most technological innovations fail.
The government can be criticised legitimately for not appreciating this fundamental feature of new technology. But it is a more subtle critique than merely pointing to the failure itself.
Given the importance of the tracing app, it would have been perfectly reasonable for the government to have pursued parallel tracks. At the same time as trying to develop its own NHSX app, it could have been collaborating with Apple and Google too.
Critics might have tried to pan this as an example of waste. But there is rarely such a thing as wasteful competition.
Spending on two completely different approaches at the same time would have been a hedge against the uncertainties which are inherent in the development of new technology. No matter how smart you are, or how much prior information you gather, you just do not know whether an innovation really will work.
The tech companies themselves protect against this uncertainty by holding far more cash than conventional economic theory regards as rational. At the start of the Covid crisis, Apple, Microsoft and Google’s parent company Alphabet between them held over $450bn in cash or marketable securities.
Pharmaceutical companies face a similar challenge Most new drugs fail. They fail when they are still in the lab, and they fail once they go out for testing to get regulatory approval.
In America, for example, there are three phases to the test process, each more demanding than the last.
The time scales are long. Andrew Lo, an MIT polymath, and his colleagues published a paper last year in the journal Biostatistics. They gathered a sample of over 400,000 clinical trials carried out between 2000 and 2015. Even after all the initial development work in the lab was completed, the typical successful drug took 8.3 years to obtain approval.
This puts into perspective the current frantic efforts to develop treatments and vaccines for Covid-19.
The probability of obtaining regulatory approval varies widely across categories. But overall, when a candidate drug enters phase one trials, its chances of eventual success are less than 10 per cent.
The government should embrace the idea that money spent on technology or drugs which fail is not money wasted. Indeed, the real mistake is not to risk enough, to stake everything on a single project.
This is the true failure of NHSX.
As published in City AM Wednesday 24th June 2020
Image: Covid tracing app by Gerd Altmann via Pixabay
Slavery has certainly been in the headlines in the past couple of weeks.
Given this sudden interest in this area of history, it is worth considering the economic lessons it can teach us, as well as the moral ones.
Slavery was abolished in England itself in the twelfth century. Then in 1772, Lord Mansfield gave his famous judgment that as soon as any slave set foot on British soil, he or she was automatically freed.
Clearly, some people became rich by trading or owning slaves abroad. There is nothing new or unusual about this. Taking a broad sweep of human history, the societies in which slavery does not feature form a very distinct minority.
It was Karl Marx who coined the phrase the “ancient mode of production” to describe the economies of both Ancient Greece and Rome. Greece, of course, gave us the concept of democracy itself. Yet, ironically, its economy was built on slavery.
Rome developed the concept even further. With a plentiful supply of labour from its military conquests, the aristocracy owned vast tracts of land, maintained by slaves.
Yet although individuals became rich through slavery, Rome as a society did not.
When the Empire was at its maximum extent in the second century AD, the living standard of the average Roman citizen was the highest the world had yet seen. Indeed, it was probably not surpassed until the early modern era.
Yet the Roman economy, prosperous though it was, remained at the living standard of purely agrarian societies. It never got “lift off”, as Europe did in the eighteenth and nineteenth centuries.
The fundamental problem was that an economy based on slavery has little incentive to adopt new, more efficient ways of working. Indeed, for the individual slave there is virtually no incentive at all. If a particular task can be done better and more quickly, there is always another one which he or she will be given. Innovations, when they did happen, spread only very slowly.
The inherent inefficiency of slavery as a method of production is clear from the experience of Stalin’s Soviet Union and Mao Tse Tung’s Communist China — the two great slave societies of the twentieth century.
The labour camps, filled with the so-called enemies of socialism, represented a huge drain on their economies. Output was low, and large amounts of resources were needed to run and maintain the system.
Slavery is of course morally repugnant, a stain on the histories of civilised societies. But it is also economically detrimental to the societies it ostensibly appears to benefit. The fact is that no society based on slavery has ever come anywhere near to delivering decent living standards for the average person.
The only system which has is capitalism. Britain and other areas of north west Europe started to become rich through a system based on the rule of law, the ability of individuals to profit from innovation and not be expropriated, and the freedom of labour to negotiate contracts.
Morality undoubtedly played a part in Britain’s leading role in abolishing slavery. But by the early nineteenth century, it had become an anachronism. Resources employed in slavery could be put to much more productive use under capitalism.
Perhaps, then, we should remove not just statues of British slave owners, but erase the whole corpus of Greek and Roman art, financed as it was by Marx’s slave-based ancient mode of production.
As published in City AM Wednesday 17th June 2020
Image: Antique Statues via Wallpaper Flare
Economic policy is returning to its usual position of prominence.
Fears of a major rise in unemployment are starting to worry the government more than fears around Covid-19.
The chancellor’s imaginative schemes concerning furlough and other measures to protect jobs create potential problems elsewhere. So much money is being borrowed that the ratio of public sector debt to GDP has soared above 100 per cent.
The last time we were here was at the end of the Second World War. Then, the debt ratio was a massive 250 per cent.
The Labour government of that time has a reputation for being the most left-wing in British history. It nationalised the mines and railways, and created both the modern welfare state and the NHS.
But it reacted to the massive level of public debt with impeccable orthodoxy. Between 1947 and 1951, Labour ran public sector surpluses to help pay off the debt. These were huge, averaging some £50bn a year at today’s prices.
Will Rishi Sunak be forced into similar levels of austerity, cutting spending and raising taxes?
A timely and fascinating Policy Exchange paper issued last week argues that this would be completely the wrong thing to do. The authors — Gerard Lyons, Warwick Lightfoot and Jan Zeber — are not noted for any previous enthusiasm for fiscal activism, which makes the treatise all the more interesting.
They note that there was a further, perhaps more important, way in which the public debt mountain was brought back under control, in addition to the immediate post-war austerity.
The 1950s and early 1960s saw strong economic growth. A famous phrase coined in 1959 by the then Prime Minister Harold Macmillan was “you’ve never had it so good”. This, plus a modest rate of inflation, helped erode the debt burden steadily and surely.
The point is that the debt which the government issues is denominated in money terms. If you buy a bond for £100 now and hold it to maturity in 10 years’ time, you get precisely £100 back.
During the 1950s, GDP grew in money terms at an average annual rate of seven per cent. The debt to GDP ratio is, quite simply, the outstanding stock of debt divided by GDP. There was essentially no net addition to debt in this period. But the growth in nominal GDP meant that the ratio was halved.
To tackle today’s debt, Lyons and colleagues call for a strategy of growth. Their most striking demand is to change the remit of the Bank of England from one of controlling inflation to one of controlling GDP in money terms — a combination of inflation and real growth in the economy.
The Federal Reserve in the US is also tasked with taking the real economy — output, jobs — into account, but others such as the European Central Bank remain shackled by a pure inflation target.
This proposal would certainly shake up the Bank of England after years of complacency under Mark Carney. Given the Prime Minister’s new-found interest in the economy, it could be an idea whose time has come.
As published in City AM Wednesday 10th June 2020
Image: Bank of England via Flickr CC BY-ND 2.0
Can we learn from history?
An excellent book by Ben Gummer on the Black Death in fourteenth century Britain, The Scourging Angel, shows that we can.
Published 10 years ago, the book offers many intriguing parallels with the Covid-19 crisis.
Of course, the Black Death was almost incomprehensibly more lethal. Around 50 per cent of the total UK population died in 1348–49. That is 33m deaths in current terms.
Modern scholarship has overturned the long-held idea that the plague was spread exclusively by fleas on rats. Contemporaries knew that it was spread from person to person by breath. The new coronavirus is transmitted by droplets from the nose and mouth. Both diseases lingered on clothing and objects.
People back then worked out very quickly how plague might be avoided. Those who could fled from infected areas. If possible, they locked themselves away in castles or monasteries.
The peasantry — the vast bulk of the population — had far fewer options. But they did try to cut off contact with the world outside their own immediate village as much as possible.
Then, as now, there were inequalities in health outcomes. Because of their greater ability to practise social distancing, the nobles and church leaders had much lower death rates. Even so, these were still some 20 per cent.
There were arguments over the Medieval equivalent of PPE. In London, the demand for gloves rose dramatically. Master glove makers enticed away their rivals’ employees. Unlicensed glove production, often of dubious quality, soared. The city fathers had to step in and enforce the regulations more effectively.
On a lighter if macabre note, a “William of Liverpool” was convicted of a different scam. A neighbouring village had no burial ground. For a substantial fee, he agreed to take the bodies and bury them on what he claimed were his extensive fields. Essentially, he then fly-tipped the corpses on his way home.
Then there is the economy. The current chancellor has had to be very innovative with his schemes to preserve jobs. The Black Death created the opposite problem: a massive shortage of labour.
But an equally innovative and imaginative solution was found. Maximum wage rates were fixed by legislation. The local nobility and gentry were given an incentive to enforce it: any fines collected from workers paid more than was legal could be offset against the overall amount of tax due from the county.
Two positive themes emerge towards the end of the book.
First, the authorities then took steps to try to mitigate the impact of any second wave of the plague almost as soon as the first had passed. The streets of London, for example, unimaginably filthy to modern eyes, were kept cleaner.
Here is a key lesson for Covid-19. If a new wave arrives in the winter, there is no excuse if the government is not prepared. The time to start is now.
The second point is that economic activity recovered remarkably quickly. London in particular was soon buzzing again. It was not state action which delivered this — it was confidence on the part of both entrepreneurs and consumers.
Now, as then, confidence is the key to recovery.
As published in City AM Wednesday 3rd June 2020
Image: Coronavirus street art by Evelyn Simak via Geograph CC BY-SA 2.0
In London, the Covid virus is disappearing rapidly. Hospital trusts are increasingly reporting days with no new cases at all.
During the crisis, there has been a proliferation of home-made signs in rural locations telling city dwellers, with varying degrees of politeness, to turn back and go home. Will we now see messages at junctions with the M25 saying “Yokels, keep out!”?
There is one thing which areas such as Cornwall have been very happy to let in. This is of course the huge subsidies which the regions receive from taxpayers in London and the South East.
This is nowhere more so than Scotland.
Scottish regulations prevent you from travelling more than five miles from home. So English people are effectively banned from entering Scotland. But our money continues to flow across the border.
It is not just that Scotland receives its fair share of the fiscal surplus generated by London. It gets extra special amounts under the so-called Barnett formula, devised by the Labour government of the 1970s in a vain attempt to hold the SNP at bay.
The Covid crisis has ruthlessly exposed the emptiness of the nationalist case for independence.
Before the crisis, the Scottish government ran what was by some margin the largest fiscal deficit in the whole of Europe. Figures produced by the Government Expenditure and Revenue for Scotland showed the nation running a public sector deficit of 7 per cent of GDP.
In the 2014 referendum on Scottish independence, the SNP assumed that much of the gap could be filled by oil revenues. An average oil price of $120 a barrel was assumed, a figure which attracted disbelief at the time. Between 2015 and 2019 the actual average was less than half of this, at $57 a barrel.
During the recent crisis, the price has of course fallen still further, and it is hard to see it getting back even to $60 in a sustained way.
But the overwhelming question is: how would an independent Scotland have paid for the Covid crisis?
UK government borrowing in the month of April was easily the highest on record, at £62 billion. The Bank of England both issued debt and intensified the amounts spent on quantitative easing. So far, the market continue to have confidence, even though the Bank has, in crude terms, been printing large amounts of money.
How would Scotland have met the massive increase in its already large fiscal deficit?
If the country were in the Euro, the European Central Bank would not allow it to print money. If it kept the pound, the same would apply to the Bank of England.
In the financial crisis, as banks such as the Royal Bank of Scotland collapsed, it was the English taxpayer who rescued Scotland.
As Marx said, history repeats itself first as tragedy then as farce. It is a tragedy that once again we have to bail Scotland out. It is a farce that we are not allowed into the country while we do this. Time to call it a day on subsidies for Scotland.
As published in City AM Wednesday 27th May 2020
Image: Scottish Independence via Pixabay
In the mid-19th century, Japan was an impoverished feudal backwater. A fleet of American warships totally humiliated their navy, and compelled Japan to sign a highly disadvantageous treaty.
Within a matter of just a few years, the Japanese completely transformed their system of government and industrialised very rapidly.
This is just one of many historical examples of how crises give rise to both destruction and opportunity.
Crises expose systems which have outlived their vitality. At the same time, they create the potential for much more effective and innovative ways of doing things.
The Covid crisis has revealed the failings of the health bureaucracy in the UK in ways which have become all too familiar. Judging by recent press reports, the Prime Minister has them in his sights.
In education, too, the antics of some of the teachers’ unions suggest they are more interested in shielding the more mediocre and outright useless members of the profession from having to work than they are in the welfare of children. Indeed, the teachers who have worked so splendidly through the lockdown are effectively being cold shouldered by their union leaders.
Education is a sector where enterprising teachers have brought in important innovations during the crisis, from primary schools through to universities.
Some of the world’s leading universities had developed free massive on-line open courses (MOOCs) well before the current crisis. For example, a Google search of “free on-lines courses Harvard” comes up with around 100.
The first three, out of interest, are Introduction to Game Development, Web Programming with Python and Java and Mobile App Development, all oriented to developing skills for the 21st century economy. Anyone can access these Harvard courses for free.
In the UK, many student loans will never be repaid in full. They constitute a substantial addition to public sector debt.
It must be possible to shorten many university courses to two years rather than three by making use of material made available for free by top universities. This would make a big difference to the level of student debt.
Going even further, students themselves could make huge savings if more of them stayed at home for the entire length of their courses. The Open University has shown for decades how this is possible.
Universities themselves could set entrance exams for acceptance onto a particular course and give guidance on which online material to follow.
Enterprising further education colleges have already put large amounts of teaching material online. Some courses, such as hairdressing, cannot be done completely online.
Even so, this is a way in which the weaker institutions and teachers could literally be driven out of business. FE students in principle need no longer be confined to what is on offer, in terms of both scope and quality, in or near their home town.
The ideas above are not in any way a fully worked out blueprint.
But the potential is surely there to deliver education at all levels much more effectively and more efficiently at considerable savings to the public finances.
As published in City AM Wednesday 20th May 2020
Len McCluskey, the leader of the trade union Unite, probably did as much as anybody to ensure Boris Johnson’s massive electoral victory last December.
A fervent supporter of Jeremy Corbyn, his grip on the Labour Party machine compelled Labour to fight the election with its most unpopular and inept leader in history.
McCluskey is up to his old tricks, this time with the support of other, usually more staid unions such as Unison and the GMB.
Their threat is to tell their members not to return to work unless there is a massive boost to spending on health and safety enforcement.
The various railway unions are making demands, much to the chagrin of London’s Mayor, Sadiq Khan. The teachers’ unions are itching to instruct their members not to go back to work.
In all of this, the unions are behaving exactly like the villain of the economic textbooks – the good old-fashioned profit maximising firm.
In this case, the “profit” which the unions are trying to maximise is the pay and conditions of their members.
For all the rhetoric of their leaders about social justice and world peace, this is the main reason why people join trade unions.
Union leaders believe that the government’s desire to gradually move Britain back to work has given them a strong bargaining chip.
Just like the most ruthless capitalist, they are acting rationally by seeking to maximise the benefits accruing to their members.
Or are they?
For those who remember the 1970s, there is more than just a touch of nostalgia about the current situation. Then, as now, trade unions leaders attempted to hold the country to ransom. In one infamous example, the railway workers turned down an offer of a 27.5 per cent pay increase on the grounds that it was inadequate.
But the eventual outcome was not the triumph of the unions, but their literal annihilation in much of the private sector under Mrs Thatcher. Only 13 per cent of workers in the private sector now belong to a union, compared to over 50 per cent in the public sector.
The economic textbooks themselves make a clear distinction between short-term and long-term profit maximisation. It is usually not sensible to try and exploit every short-term advantage.
Whenever the lockdown finally ends, the government will be faced with a massive gap between what it spends, and what is raised by taxation.
There is already strong pressure from within the Treasury to reduce and even eliminate this deficit. Big savings on public spending or increases in taxes are the only options.
Whatever the opinion polls may say now about the demands of the unions, it is most unlikely that the current privileged position of those in the public sector will survive for long. They have remained on full pay, not furloughed or made redundant, even when they have not been required to work.
With high unemployment and squeezes on pay and living standards in the private sector, sympathy for those cocooned from the rigours of the market economy is unlikely to last.
As published in City AM Wednesday 13th May 2020
As the government plans the timetable for getting Britain back to work, opinion polls continue to show strong support for the lockdown.
An Opinium poll at the weekend is typical. Unsurprisingly, given the overwhelming scientific evidence on dangers associated with large gatherings, a massive 84 per cent of respondents thought stadiums should not be reopened on 8 May.
We might, incidentally, usefully recall that on 14 March Sir Patrick Vallance, the government’s chief scientific advisor, stated that shutting down mass events would not have a big effect on reducing the spread of the virus. Had he never been to one himself?
At the onset of the pandemic, it was entirely rational for people to support a lockdown.
The early figures from China suggested the death rate might be in the range of 3 to 5 per cent of those who caught the virus. Television screens were filled with horrifying images of the North Italian health system being overwhelmed.
On the basis of the available information, people acted as rational economic agents. Social distancing took off, offices closed, transport use dropped, all before the compulsory lockdown came in on 23 March.
Much more information is now available. For example, well over 90 per cent of deaths from Covid-19 in hospitals are of people with at least one underlying medical condition.
For someone in reasonable health, the chances of dying from the virus are very low indeed. At least 40 million people – probably nearer 50 million – in the UK fit into this category. There have been just over 1,000 deaths of such people. Do the arithmetic.
Of course, it is both a new risk, and there is a very sensible reluctance to want to avoid infecting the vulnerable. But, rationally, the information hardly warrants the strength of support for stringent lockdown.
We need to turn to behavioural economics to get an insight into current opinion. People acted rationally at the start of the crisis, but less so now.
A well-established phenomenon is that of “ambiguity aversion”. Even when risks exist, most people feel much more comfortable in situations where they feel they have a reasonable understanding of them than when they do not. They know you can be killed or injured driving, but they still do it.
Even during bad flu years, when tens of thousands of those in ill health die, there is no clamour for a lockdown.
People have learned about such events and there is little “ambiguity” around them. Healthy individuals know that their chances of catching it are low. And, whilst it is very unpleasant to get it, they are most unlikely to die.
A key task now for the government is to reduce these uncertainties around Covid.
It is a bit of a tricky one. It is not easy to give out the message that for most people the risk is very low, whilst at the same time not creating complacency.
Still, that is for the spin doctors and advertising gurus. Economics gives them insight on the challenge they face.
As published in City AM Wednesday 6th May 2020
Image by Deserted Marble Arch via Wikimedia CC BY-SA 3.0
The attention of policy makers has been focused on the science of how viruses either spread or are contained in social networks.
Just as crucial in the current circumstances is the spread of beliefs and behaviour. Will people continue to observe social distancing once the lockdown is eased, or will they revert to pre-lockdown patterns of behaviour?
For all their sophistication, epidemic models are a product of 20th century science. Understanding how patterns of behaviour evolve requires the 21st century science of network theory.
Much remains to be discovered in this innovative scientific field. But much is already known.
For example, a recent major study in the top journal Science established that fake news seems to have more novelty and attraction than real news. Fake news tweets typically show a much higher level of emotion in their overall content.
A piece of fake news is not certain to spread and be believed. Most stories just fade away. But fakes have a better chance than true of getting traction.
A recent example is the idea that coronavirus is spread by 5G technology. Fortunately, belief in this seems to have been contained to a relatively small group. But 5G phone masts continue to be attacked.
We now have much more evidence. Across the West, well over 90 per cent of deaths from the virus are of people with an underlying health condition. A fit 70 year old is at far less risk of death than a grossly obese 35 year old.
If a substantial proportion of the 9 million over 70s were to believe they were the target of Remainer Revenge, the police would be totally powerless in the face of widespread disobedience.
The police themselves understand this only too well. In essence, the phrase “policing by consent” means that the vast majority of people have to hold the belief that the police can be trusted to act reasonably.
Their fear is that this could easily crumble. One idea being floated is that family “bubbles” would be created for social mixing. The former Chief Constable of Greater Manchester made it clear over the weekend that the police would basically not want to be involved in its enforcement.
These are just a few examples of the importance of network science, a discipline which involves mathematicians, computer scientists and social scientists. This must become a key part of “the science” on which the government relies.